Experts writing on innovation suggest that it tends to be ‘path-dependent’. Firms innovate in areas they know something about, where they have a track record and cumulative capabilities. There are comparatively rare examples of firms moving into very new areas – Nokia from paper and forestry into mobile phones for example – but such transitions take a lot of time and require the growth of radically new capabilities.

Developing and distributing software is a very different process to hardware innovation and production. Software producers write computer code, which once written is easy and very cheap to replicate. In the software world, post-development production costs are virtually zero.

Not so with hardware. Hardware manufacturers have to think about materials, design for manufacture and production engineering. They must consider tricky things like how will the heat generated inside the box be dissipated. Or in the case of games consoles, will the product still function when subjected to the rough and tumble of the family home - children and pets can take their toll!

And with the economics of manufacture drawing production to China and the Far East, they have to learn how to manufacture and distribute complex technology on a global scale.

These issues are likely to be compounded when the company in question is not well known for its innovative capabilities in its core business: software. Microsoft has been a follower rather than leader in the main software innovations in the personal computer arena. The graphic user interface (that enables PCs to be accessed using a mouse) and the web browser are the most obvious examples where it has lagged well behind other firms.

How can such a company successfully leap to the forefront of games console technology, as is claimed for the Xbox 360TM?

"Microsoft owes its phenomenal dominance ... to a ‘once in a century’ business error by IBM"

But then, Microsoft’s own success story is hardly typical. Microsoft owes its phenomenal dominance of the PC software business to the market share created by IBM. IBM established the industry standard for PCs and allowed Microsoft to own the rights to the vital operating system software. This gift has been described as a ‘once in a century’ business error by IBM.

How fitting that the new Xbox should be labelled ‘360’ since that was the name of the IBM range of mainframe computers that underpinned IBM share prices in their 20th century heyday.

IBM used to be referred to as ‘the environment’ because of its market dominance. Today Microsoft is arguably in a similar role in the PC software arena. But in the world of the games console their current Xbox is some way behind Sony’s PlayStation2 in terms of market share. Not being the dominant player is another new experience for Microsoft.

And in an intriguing twist of fate, in this new area of business for Microsoft it is now dependent on a clutch of software developers for the games that run on its Xboxes. This is a classic case of the hardware producer being dependent on having essential ‘complementary assets’ provided by external organizations over which it has no direct control.

The first Xbox established a bridgehead in the games market, albeit a way behind PlayStation2 in terms of market share. The Xbox 360TM is intended to leap to the next generation of powerful games machines with new levels of processing power and support for multimedia, high definition graphics and other features.

Presumably few people buy a games console unless there are games programs to run on it. Here the Xbox 360TM is presenting games developers with big technical challenges in exploiting its potential. A key question is whether the games producers have the resources and skills to do this fast enough. The extent to which they are prepared to invest in Xbox 360TM developments is dependent on perceptions of the potential market. And the even more powerful PlayStation3 is looming on the 2006 horizon, attracting developer attention.

There are some indications that Microsoft have wider ambitions for the Xbox 360TM. Though Microsoft’s marketing emphasises games, the 360 could be seen as an entertainment hub for the home. It may broaden its potential market by having the capability to run the same software as a PC, as well as functioning as a media centre for audio and video.

Microsoft also emphasises Xbox Live® – the internet link that enables gamers to interact with each other and also download upgrades. As well as providing new revenue streams this potentially adds a new dimension to the console’s repertoire, downloading music and video files. Who knows, these could even become as significant as games as a market driver.

"Microsoft’s move out of its software comfort zone ... is a bold step"

Previously only Apple has succeeded in matching innovation in both Personal Computing hardware and software, and innovating new classes of products such as the iPod. Microsoft’s move out of its software comfort zone into hardware design and manufacture, and beyond the PC business into games consoles, is a bold step.

The company does not have a distinguished record for managing innovation. But in the Xbox 360TM they may for the first time be the primary mover in a new class of products. Whether they can replicate Nokia in building world-class capability in a new area remains to be seen.

Article originally published 4th November 2005

Further reading

Why not read our articles on Innovation andNetwork Effects?

Managing Knowledge and Innovation Across Boundaries
P Quintas, in
Managing Knowledge: The Essential Reader, 2nd Edition
S Little & T Ray (eds.), Sage

The Nokia Revolution: The Story of an Extraordinary Company That Transformed an Industry
D Steinbock, AMACOM

Managing Innovation: Integrating Technological, Market and Organizational Change (3rd edition)J Tidd, J Bessant & K Pavitt, New York: John Wiley & Sons Inc